In December last year, changes to the European Market Infrastructure Regulation (EMIR) were introduced to strengthen the EU’s financial sovereignty. Alexandru Stefan Goghie writes these changes underline the EU’s desire for greater control over its financial infrastructure at a time when geopolitical tensions and market fragmentation pose risks to stability.
On 24 December last year, a new regulation (the European Market Infrastructure Regulation 3.0 – EMIR 3) came into force, marking a significant regulatory shift in European finance. Yet the regulation was not just a financial decision but one with significant geopolitical implications. To understand why, it is important to outline the role that clearing services play in finance.
Clearing services
Clearing services are a vital component of the financial ecosystem, ensuring that transactions between buyers and sellers are completed smoothly and securely. At the heart of this system are central counterparties (CCPs), which act as intermediaries between buyers and sellers to manage the risk that one party might default on its obligations. Currently, a significant portion of euro-denominated transactions are cleared through London-based central counterparties, especially the London Clearing House (LCH), a practice that has raised concerns among EU policymakers.
Even after Brexit, London has maintained its dominance in euro-denominated clearing. This is largely due to its well-established infrastructure, global connectivity and expertise. However, the EU sees this dependency as a strategic vulnerability. As the world’s largest trading bloc, the EU finds it increasingly untenable that such a critical financial function lies outside its jurisdiction.
EMIR 3 is intended to help bring these clearing services back under EU oversight. It aims to reduce reliance on third-country central counterparties based outside the EU. The regulation requires entities exceeding thresholds for specific euro and Polish zloty-denominated derivatives to maintain “active clearing accounts” and clear a portion of their derivative trades through EU-based central counterparties.
EU financial autonomy
One of the primary drivers of this initiative is the EU’s desire for financial autonomy. Relying on external central counterparties, particularly those based in non-EU jurisdictions, means that the bloc is exposed to potential systemic risks. For instance, in times of financial stress, the EU might have limited control over the operations of London-based central counterparties. This creates a situation where critical decisions affecting the stability of the EU’s financial markets could be influenced by non-EU actors.
Another key risk is related to the European Central Bank (ECB). Euro-denominated derivatives, such as interest rate swaps and short-term interest rate futures, play a critical role in the ECB’s monetary policy implementation. These instruments reflect market expectations, inform central bank analysis and influence mortgage prices, creating a vital link between central bank rates and the broader financial system.
Any disruptions in clearing services for these derivatives could undermine the ECB’s ability to transmit monetary policy effectively, posing a significant challenge to its operational goals. EMIR 3 therefore aims to enhance the resilience of EU clearing services in these euro-denominated derivatives markets.
Brexit complexities
The regulatory divergence between the EU and the UK post-Brexit has added another layer of complexity. While the UK was part of the EU, its financial services were governed by EU regulations. Since Brexit, the regulatory frameworks have begun to diverge, raising concerns about inconsistencies and legal uncertainties. By relocating euro-denominated clearing to EU-based central counterparties, the bloc aims to ensure that these services operate under a unified regulatory regime, providing greater stability and predictability.
The transition, however, is not without its challenges. Moving a significant volume of clearing activity from London to EU-based central counterparties could disrupt existing market structures and relationships. For decades, London has been the financial hub of Europe, and many market participants are accustomed to its systems. Reorganising these networks will require substantial coordination, investment and time.
Another issue is the capacity of EU-based central counterparties to handle the increased volume of transactions. Scaling up operations will necessitate significant upgrades in infrastructure and technology. It is a costly and complex process, but one that the EU considers essential for achieving its long-term goals.
Resistance from market participants is also likely. Banks, investors and other stakeholders have voiced concerns about the potential costs and inefficiencies of shifting clearing activities. These concerns are compounded by fears of market fragmentation, which could lead to higher costs and reduced liquidity.
The geo-approach to financial services
Despite these challenges, the EU’s efforts to repatriate clearing services could have profound implications. If successful, this move will enhance the bloc’s control over its financial infrastructure, reducing vulnerabilities associated with external dependencies. It will also allow the EU to enforce its regulatory standards more effectively, ensuring a level playing field across its markets.
The geopolitical implications are equally significant. By consolidating its financial infrastructure, the EU is sending a clear signal about its ambitions to play a leading role in global finance. The relocation of euro-denominated clearing services will not only strengthen the EU’s internal cohesion but also position it as a stronger counterweight to other major financial centres, including London and New York.
This move also reflects broader trends in the geopolitics of finance. As the global economy becomes increasingly multipolar, financial sovereignty is emerging as a key priority for many regions. The EU’s actions highlight growing recognition that control over financial infrastructure is not just an economic issue but a strategic one.
The outcome of this initiative will be closely watched, not just within Europe but around the world. It represents a test case for how regions can assert control over critical financial functions in an era of growing economic interdependence. If the EU succeeds, it could set a precedent for other regions looking to enhance their financial autonomy.
For more information, see the author’s accompanying paper in Geopolitics.
Note: This article gives the views of the author, not the position of EUROPP – European Politics and Policy or the London School of Economics. Featured image credit: Michael Firmbach / Shutterstock.com